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ISAP 2
International Standard of Actuarial Practice 2
Financial Analysis of Social Security Programs
1 December 2018
ISAP 2 International Standard of Actuarial Practice 2
Financial Analysis of Social Security
Programs
Adopted by the IAA Council 13 October 2013
Conformance changes adopted 23 April 2017
Conformance changes adopted 1 December 2018
Tel: +1-613-236-0886 Fax: +1-613-236-1386
Email: [email protected]
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www.actuaries.org
© International Actuarial Association/ Association Actuarial Internationale
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TABLE OF CONTENTS
Preface........................................................................................................................................ ii
Introduction ............................................................................................................................... iv
Section 1. General ................................................................................................................. 1
1.1 Purpose ........................................................................................................................... 1
1.2 Scope .............................................................................................................................. 1
1.3 Compliance .................................................................................................................... 1
1.6 Effective Date ................................................................................................................ 1
Section 2. Appropriate Practices ........................................................................................... 2
2.1 Consideration of all Relevant Features of the SSP and Law ......................................... 2
2.2 Data ................................................................................................................................ 2
2.3 Assumptions ................................................................................................................... 2
2.4 Consistency with the Financing Method........................................................................ 3
2.5 Independent Expert Review ........................................................................................... 4
2.6 Assumptions and Methodology Mandated by Law ....................................................... 4
Section 3 Communication .................................................................................................... 5
3.1 Report on Financial Analysis ......................................................................................... 5
3.2 Actuarial Opinion........................................................................................................... 5
Appendix .................................................................................................................................... 7
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Preface
This International Standard of Actuarial Practice (ISAP) is a model for actuarial
standard-setting bodies to consider.
The International Actuarial Association (IAA) encourages relevant actuarial standard-setting
bodies to maintain a standard or set of standards that is substantially consistent with this
ISAP to the extent that the content of this ISAP is appropriate for actuaries in their
jurisdiction. This can be achieved in many ways, including:
• Adopting this ISAP as a standard with only the modifications in the Drafting
Notes;
• Customizing this ISAP by revising the text of the ISAP to the extent deemed
appropriate by the standard-setting body while ensuring that the resulting
standard or set of standards is substantially consistent with this ISAP;
• Endorsing this ISAP by declaring that this ISAP is appropriate for use in certain
clearly defined circumstances;
• Modifying existing standards to obtain substantial consistency with this ISAP; or
• Confirming that existing standards are already substantially consistent with this
ISAP.
A standard or set of standards that is promulgated by a standard-setting body is considered to
be substantially consistent with this ISAP if:
• There are no material gaps in the standard(s) in respect of the principles set out in
this ISAP; and
• The standard or set of standards does not contradict this ISAP.
If an actuarial standard-setting body wishes to adopt or endorse this ISAP, it is essential to
ensure that existing standards are substantially consistent with ISAP 1 as this ISAP relies
upon ISAP 1 in many respects. Likewise, any customization of this ISAP, or modification of
existing standards to obtain substantial consistency with this ISAP, should recognize the
important fact that this ISAP relies upon ISAP 1 in many respects.
If this ISAP is translated for the purposes of adoption, the adopting body should select three
verbs that embody the concepts of “must”, “should”, and “may”, as described in paragraph
1.6 Language of ISAP 1, even if such verbs are not the literal translation of “must”, “should”,
and “may”.
ISAPs are model standards of actuarial practice and, as such, are not binding on any
actuary.
ISAP 2 was adopted by the IAA Council in October 2013. This conforming version was
adopted on 1 December 2018.
[Drafting Notes: when an actuarial standard-setting organization adopts this ISAP it should:
1. Replace “ISAP” throughout the document with the local standard name, if
applicable;
2. Modify the wording in paragraph 1.4 to point to the local standard(s) that are
substantially consistent with ISAP 1, rather than referring to ISAP 1 directly, if
appropriate;
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3. Choose the appropriate phrase and date in paragraph 1.6;
4. Review this ISAP for, and resolve, any conflicts with the local law and code of
professional conduct; and
5. Delete this preface (including these drafting notes) and the footnote associated with
paragraph 1.6.]
ISAP 2 – Financial Analysis of Social Security Programs 1 December 2018
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Introduction
This International Standard of Actuarial Practice (ISAP) applies to actuarial services
performed in the context of social security programs (SSPs). It is intended to:
• Promote the development of consistent actuarial practice for SSPs throughout the
world; and
• Narrow the range of practice considered acceptable under ISAP 1 – General
Actuarial Practice.
Where this ISAP defines as acceptable a practice that would not be acceptable under ISAP 1,
it is clearly identified.
Because of their significant expertise in preparing long-term financial projections, actuaries
often play an important role in carrying out financial analyses of SSPs. Financial analyses are
commonly referred to as valuations. Due to the reliance placed on actuarial projections in
public policy decision-making, it is important that the short- and long-term demographic and
economic analyses of these SSPs provide objectively-prepared projections of their future
conditions.
In this area of practice, the International Actuarial Association (IAA) previously adopted
IASP 1– Guidelines of Actuarial Practice for Social Security Programs, which became
effective on January 1, 2003. This was a level 4 standard (which has the effect of a current
international actuarial note) and is superseded by the adopted version of this ISAP.
Few existing professional standards and guidelines specifically apply to SSPs. Most countries
have no specific standards in this area. The IAA has decided to issue this ISAP to fill this
gap. Its action is supported within the International Social Security Association (ISSA) and
the International Labour Organization (ILO).
ISAP 2 – Financial Analysis of Social Security Programs 1 December 2018
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Section 1. General
1.1. Purpose – This ISAP provides guidance to actuaries performing financial analyses of
SSPs, or reviewing, advising on, or opining on such analyses, to give intended users
confidence that:
• Actuarial services are carried out professionally and with due care;
• The results are relevant to their needs, are presented clearly and understandably,
and are complete; and
• The assumptions and methodology (including, but not limited to, models and
modelling techniques) used are disclosed appropriately.
1.2. Scope – This ISAP applies to actuaries when performing or reviewing, advising on, or
opining on financial analyses of SSPs.
1.3. Compliance – An actuary may fail to follow the guidance of this ISAP but still comply
with it where the actuary:
1.3.1. Complies with requirements of law that conflict with this ISAP.
1.3.2. Complies with requirements of the actuarial code of professional conduct
applicable to the work that conflict with this ISAP.
1.3.3. Departs from the guidance in this ISAP and provides, in any report, an
appropriate statement with respect to the nature, rationale, and effect of such
departure.
Paragraphs 2.6, 2.8, and 2.9 of ISAP 1, as modified by paragraph 2.6 of this ISAP,
cover the situation where the actuary is directed to use certain assumptions or
methodology. The actuary who complies with these paragraphs is not deviating from
this ISAP.
1.4. Relationship to ISAP 1– Compliance with ISAP 1 is a prerequisite to compliance with
this ISAP, except where ISAP 1 is overridden by this ISAP. Whenever guidance in this
ISAP overrides the guidance in ISAP 1 the caption [This paragraph replaces
paragraph x.y [title of paragraph x.y] in ISAP 1] will be shown at the start of the
paragraph. References in ISAP 1 to “this ISAP” should be interpreted as applying
equally to this ISAP 2, where appropriate.
1.5. Defined Terms This ISAP uses various terms whose specific meanings are defined in
the Glossary. These terms are highlighted in the text with a dashed underscore and in
blue, which is also a hyperlink to the definition (e.g., actuary).
1.6. Effective Date – This ISAP is effective for {actuarial services performed/actuarial
services commenced/actuarial services performed relevant to an event}1 on or after
[Date].
1 Phrase to be selected and date to be inserted by standard-setter adopting or endorsing this ISAP.
ISAP 2 – Financial Analysis of Social Security Programs 1 December 2018
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Section 2. Appropriate Practices
2.1. Consideration of all Relevant Features of the SSP and Law – The actuary should
consider all relevant SSP features, the policies and the stated intentions of the
sponsoring organization, and current law, if that information exists and is reasonably
available to the actuary. The actuary should also take into account established practice
(if relevant) when no law exists with regard to certain benefit provisions or financial
measures (for example, the basis for future indexation of retirement benefits). For a
newly established or substantially changed SSP, the actuary should take into account
other relevant information, including relevant experience in comparable SSPs.
2.2. Data – The actuary should consider what data are required in order to perform, review,
advise on, or opine on the financial analysis of the SSP. These data might include:
a. National or regional demographic statistics on variables such as fertility,
mortality (life expectancy), morbidity, and migration (if such data are not
available on a national or regional basis, the actuary might consider information
from a wider geographical area that might apply, or it may be necessary to rely
on relevant and reliable statistics of international organizations);
b. Demographic status and experience of the SSP, as applicable;
c. Economic experience, labour market conditions, and inflation;
d. Financial attributes of the SSP, such as contributions, investment earnings, and
liquidity of assets;
e. Benefits of, or claims on, the SSP;
f. Number and experience of classes of contributors and beneficiaries of the SSP;
g. Covered salaries and past service credits; and
h. Censuses and population surveys covering, for example, family statistics.
2.3. Assumptions – If the actuary sets the assumptions, the actuary should use neutral
assumptions in a financial analysis of an SSP. Neutral assumptions are such that the
actuary expects that the resulting projection of the SSP experience is not a material
underestimate or overestimate.
2.3.1. The actuary should consider performing an experience analysis to the extent
that the available data permit, to analyze past experience and to set future
assumptions.
2.3.2. The actuary should select assumptions that reflect the time horizon of the
analysis (which might be 75 years or more). The actuary may select different
assumptions for different time intervals in the projection (e.g., a common
technique for this is to use recent experience as the basis for the model
assumptions for the first “n” years of projection, with longer-term trends
applied to the ultimate assumptions after the first n years (select and ultimate)).
2.3.3. The actuary should consider any automatic balancing mechanisms that exist in
an SSP when selecting the model variables and assumptions for an SSP
financial analysis. The actuary should consider to what extent the SSP is
“immunized” from the volatility of some variables (e.g., life expectancy) by
the automatic balancing mechanisms.
2.3.4. Credible experience data might not exist for a newly introduced SSP, or for
ISAP 2 – Financial Analysis of Social Security Programs 1 December 2018
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new benefits to be provided by an existing SSP. To establish assumptions in
such cases, the actuary may:
a. Investigate the risk characteristics of the potential covered population
through surveys or enquiries until credible data are available;
b. Consider the relevant external experience, including:
• Other SSPs (including the program being replaced, if any), or
• Other countries;
c. Use reasonable proxies or default values as may be appropriate.
If credible experience data do not exist, the actuary should disclose in the
report that the financial analysis has been based on incomplete data (and
perhaps none relating to the SSP itself), and should consider recommending
that financial analyses should be performed again as new information becomes
available.
2.3.5. If the actuary uses assumptions that include margins, then the actuary should
disclose in the report the basis and rationale for the margins and explain the
relationship between the result using the assumptions that include margins and
the result using neutral assumptions.
2.3.6. The actuary should consider including in the analysis projections based on
other sets of assumptions such as those that would result in high projected
costs and those that would result in low projected costs when such projections
are helpful in analysing the uncertainty of the projections and communicating
the financial status of an SSP.
2.4. Consistency with the Financing Method – The actuary should use a methodology that
is consistent with the financing method used for the SSP.
2.4.1. For pay-as-you-go or partially funded SSPs, the analysis should use an open
group methodology, under which contributions and benefits of both current
and future participants are considered.
2.4.2. For fully funded SSPs (that is, where accrued liabilities are intended to be
funded over participants’ working years), the analysis should use a closed
group methodology, under which only current participants are considered, with
or without their assumed future benefit accruals.
However, if the actuary judges an alternative approach to be more appropriate, that
approach should be used with justification communicated in the report. In such
circumstances, the actuary may also consider reporting the results of the financial
analysis under:
a. An open group methodology for pay-as-you-go or partially funded SSPs;
and
b. A closed group methodology for fully funded SSPs.
If the law specifies a methodology for measuring the actuarial assets and obligations
that does not follow either section 2.4.1 or 2.4.2, as applicable, the actuary should
communicate that fact. The actuary should also comply with the guidance of paragraph
2.6 of this ISAP.
ISAP 2 – Financial Analysis of Social Security Programs 1 December 2018
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2.5. Independent Expert Review – A financial analysis is often subject to review by an
independent expert.
2.5.1. This review might address:
a. Whether the assumptions used in the financial analysis are within a
reasonable range both separately and in the aggregate;
b. Whether the results of the financial analysis are within a reasonable
range; or
c. Other aspects of the financial analysis.
2.5.2. “Independent expert” means a suitably experienced reviewer who:
a. Has not been involved in preparing the work that is subject to review;
and
b. Is not employed by the principal or its sponsoring agencies.
In this context a reviewer contracted by the principal to perform the review is
not considered to be employed by the principal or its sponsoring agencies.
2.5.3. The actuary who prepared the financial analysis should cooperate with the
reviewer by providing the reviewer with any requested material in the
actuary’s possession if the terms of the actuary’s engagement so permit, and
by being available to discuss data, methodology, assumptions, and other
factors as necessary, with the reviewer.
2.6. Assumptions and Methodology Mandated by Law – [This paragraph replaces
paragraph 2.9 “Assumptions and Methodology Mandated by Law” in ISAP 1]
When an assumption or methodology is mandated by law, the actuary should apply the
guidance of paragraph 2.8 of ISAP 1 as if the assumption or methodology were
prescribed by the principal or another party.
ISAP 2 – Financial Analysis of Social Security Programs 1 December 2018
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Section 3. Communication
3.1. Report on Financial Analysis –
3.1.1. The actuary should communicate the results of any financial analysis in a
report that:
a. Includes enough information to enable sound decisions to be made;
b. Discloses who the principal is, what the purpose of the financial analysis is, and the instructions given to the actuary;
c. Indicates the nature and timing of future cash flows being quantified;
d. States the nature and significance of material risks faced by the SSP;
e. Explains the approach taken to the risk in the analysis;
f. Indicates the nature and extent of any material uncertainty in the
information it contains; and
g. Indicates the sensitivity of the results to variations in key assumptions
and methodology.
3.1.2. There are several measures the actuary might use to present the results,
including:
a. Projected cash flows and ending positions;
b. Discounted cash flows; and
c. Required contribution rates for sustainability.
3.1.3. This section applies specifically to reports concerning the projected financial
status of an SSP. The actuary should include at least the following information
in an SSP financial analysis report. The appendix (which is educational and
not part of the guidance of this ISAP) shows lists of possible content for most
sections of a report.
a. Description of the relevant provisions of the SSP;
b. Key dates:
• Valuation date;
• Report date; and
• Date up to which all relevant information had been taken into
consideration, if it differs from the report date.
c. Methodology, data, and assumptions;
d. Results and findings;
e. Analysis of results; and
f. The actuarial opinion.
3.1.4. The actuary should include a formal statement in the report that the report has
been prepared, and the actuary’s opinion given, in accordance with the
applicable local standards of practice or this model ISAP.
3.2. Actuarial Opinion – The actuary should provide an opinion on the actuary’s
assignment:
ISAP 2 – Financial Analysis of Social Security Programs 1 December 2018
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3.2.1. Unless paragraph 3.2.3 applies, the opinion should state the extent to which the
following hold, or do not hold:
a. The data upon which the report is based are sufficient and reliable;
b. The assumptions used for the report are reasonable and appropriate both
in the aggregate and individually; and
c. The methodology employed is appropriate and consistent with accepted
actuarial practice.
3.2.2. Unless paragraph 3.2.3 applies, the opinion should include a statement with
respect to the extent to which the SSP is financially sustainable over the period
covered by the projections used for the financial analysis. Financial
sustainability of an SSP relates to its continuous capacity to support the
benefits offered by the SSP when considering the applicable financing rules
and the future demographic and economic environment in which it will
operate.
3.2.3. The actuary may answer questions about an existing financial analysis of an
SSP. (For example, the actuary might be asked to estimate the effect of using a
revised population projection while keeping all other assumptions the same.)
In such case the opinion’s scope (especially what is not included) should be
clearly articulated and pertinent to the question.
ISAP 2 – Financial Analysis of Social Security Programs 1 December 2018
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APPENDIX
Possible Report Content
Note: this appendix is provided for informational purposes, and is not part of the ISAP. It
contains lists the task force drafting the ISAP assembled to show possible items covered by
the various sections of the actuary’s report.
1. Description of the provisions of the SSP related to:
a. Coverage;
b. Nature of the SSP, e.g., defined benefit or defined contribution;
c. Financing approach, e.g., pay-as-you-go, partially funded, or fully funded;
d. Source of funding, e.g., worker or employer contributions, transfers from
government revenues, including legislated or contractual contribution rates; and
e. Benefit provisions, e.g., contingencies covered, formulae, amounts, restrictions,
and eligibility conditions.
2. Methodology, data, and assumptions:
a. Description of the methodology used;
b. Key demographic assumptions such as mortality (longevity), morbidity, fertility,
migration, and unemployment;
c. Key historical demographic data, such as:
i. Eligible and beneficiary population by relevant demographic characteristic
groupings, and how these populations compare to the total population;
ii. Dependency ratios;
iii. Employment earnings by age groups and gender, and averages;
iv. Contributory earnings and averages by age groups and gender;
v. Labour force participation rates by age groups and gender; and
vi. Covered payroll and workforce;
d. Key economic data and assumptions such as rates of inflation, economic growth,
and return on investments (if any);
e. The extent, if any, of interdependency among assumptions;
f. Summaries of the data used as a basis for the SSP financial analysis assumptions,
and as a starting point for the projections; and
g. Sources, quality, and relevance of the data used.
3. Results and findings:
a. Projected demographic values at selected future points in time, such as:
i. Eligible and beneficiary population by relevant demographic characteristic
groupings, and how these populations compare to the total population;
ii. Dependency ratios;
iii. Employment earnings by age groups and gender, and averages;
iv. Contributory earnings and averages by age groups and gender;
v. Labour force participation rates by age groups and gender; and
vi. Covered payroll and workforce.
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b. Financial projections showing cash flows and balance sheet values for the recent
past and for the future, such as:
i. Contributions;
ii. Investment earnings;
iii. Other income;
iv. Total income;
v. Benefits or claims;
vi. Administrative expenses;
vii. Total expenditures;
viii. Annual balance (income minus expenditure);
ix. Actuarial deficit and funded ratio as of valuation date and other
representative dates (for fully-funded pension schemes);
x. Nature of assets and/or individual accounts;
xi. Market value of financial or tangible assets;
xii. Fund value, if any; and
xiii. Value of notional assets (such as value of future contributions, if that is
recognized as an asset).
The results may be expressed in relation to one or more relevant volume
measures, such as the size of the jurisdiction’s economy.
c. Cost rates as appropriate:
i. Pay-as-you-go cost rate;
ii. General average premium or partially funded cost rate; or
iii. Fully funded cost rate.
d. A presentation designed to provide an indication of the financial sustainability of
the SSP, if appropriate.
4. Analysis of results:
a. Reconciliation with the prior report, along with explanations of significant
changes in results.
b. Discussion of the pattern of financial projections (e.g., as a result of the ageing of
the population, maturity of the SSP, and recent changes in SSP design or
financing) and the implications thereof. The actuary may include a comparison of
how benefits are projected to grow or decline as a result of different levels of
inflation or economic growth and during which part of the projection period, as
an indicator of potential stability or instability of the system in the longer term.
c. Sensitivity of results to variations in one or more assumptions.
d. Effect of automatic balancing mechanisms (if any) under each scenario used for
the projections in the report, where “effect” covers both how the automatic
balancing mechanism alters the key parameters of the SSP (such as the pension
age, or determination of benefits) and how the alteration of the key parameters
changes the amounts paid to beneficiaries.
e. Findings with respect to the short-, medium-, and long-term financial
sustainability of the SSP with due regard to the funding rules under the law if
such funding rules exist.
ISAP 2 – Financial Analysis of Social Security Programs 1 December 2018
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f. Indications of possible sources of future financial instability (e.g., depreciation of
future benefits either because of non-indexation or because indexation may lag
behind economic growth, or inadequacy of future contributions due to non
indexation of contribution limits).
g. Potential recommendations on possible measures to ensure the long-term
financial sustainability of the SSP.
h. Impact of any options or guarantees embedded in the benefits of the SSP on the
cash flows shown.
i. The suitability of the approach for calculation of any capitalized value of
liabilities used for an SSP in light of the particular funding method and the time
horizon used.